Treasury yields tumble on trade fears

Benchmark US Treasury yields dropped to 20-month lows on Wednesday as Chinese newspapers warned of retaliation against the United States in a trade war that investors are increasingly concerned will drag down global economic growth. Bonds pared price gains, however, after the US Treasury Department saw soft demand for a $32 billion sale of seven-year notes and as stock markets pared losses.
Chinese newspapers said Beijing could use rare earths to strike back at the United States. China is a major producer of rare earths, which are used widely in electronics and military equipment. It came after US President Donald Trump on Monday said Washington was not ready to make a deal with China while also pressing Japanese Prime Minister Shinzo Abe to reduce Japan's trade imbalance with the United States.
"The equity market is starting to realize that the trade war may be prolonged," said Wen Lu, a rates and volatility strategist at TD Securities in New York. "Some of the risk asset weakness continues to translate into demand for safe havens." Treasuries also rallied in line with German government debt on concerns about Italy's budget and relationship with the European Union. Germany's 10-year government bond yield fell to its most negative in nearly three years.
The European Commission on Wednesday asked the Italian government to explain a deterioration in the country's public finances, a move that sets the stage for a possible legal clash with the eurosceptic governing coalition in Rome. Benchmark US 10-year note yields fell to 2.21%, the lowest since September 2017, before rising back to 2.24%. The yields have fallen from 2.61% on April 17 and from 2.77% on March 4.
The yield curve between three-month bills and 10-year notes also inverted as far as 14 basis points. An inversion is widely seen as a precursor to a recession. Bonds pared price gains after the Treasury Department sold $32 billion in seven-year notes to weak demand. Primary dealers took their largest share of the sale since March 2018, which indicates there was low appetite for the debt from mutual funds, central banks and other investors. It came after the government saw strong demand for a $40 billion sale of two-year notes and solid demand for a $41 billion sale of five-year notes on Tuesday.